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Saturday, April 12, 2008

Fever Grows for Faith-Based Funds

(US News & WR, 11 Apr 08)

Early last year it would have been easy to thumb your nose at a mutual fund that wouldn't touch financial stocks. Shares of firms like Lehman Brothers and Merrill Lynch were trading at about twice their current value. This year, that fund might look a bit better.

But most investors in Amana Growth and Amana Income leave their fair-weather sensibilities at the door. The Amana funds invest according to Islamic principles, and an Islamic law that bars investors from receiving interest also rules out financial stocks. Luckily for their investors, Amana's funds have cranked out major returns in multiple markets—both boast a five-year average annual return near 20 percent.

Of course, returns aren't the only reason most investors are putting their money in faith-based mutual funds, which screen companies according to religious values or interpretations of religious texts and make up a booming sector of socially responsible investing. The assets in faith-based funds grew to $17 billion last year from less than $500 million a decade earlier, according to Morningstar.

Socially responsible funds are an increasingly popular fraction of the mutual fund universe. But the SRI movement is rooted in the activist sentiment of the 1960s and has largely been a haven for liberal values, making traditional SRI funds and religious funds sometimes strange bedfellows. Faith-based funds fall chiefly into Islamic, Catholic, and Protestant groupings, and several use screening criteria that would be seen by many as highly conservative.

Among Protestant funds, the Timothy Plan is known for its "Hall of Shame," a list of companies it excludes from its investments because of involvement in pornography, alcohol, tobacco, gambling, or "antifamily" entertainment. Other companies on the list are included because they make, research, pay for, or provide abortions. Companies like Coca-Cola and PepsiCo are also screened out for supporting "alternative lifestyles" by recognizing same-sex relationships in employee-benefit plans and providing financial support to gay or lesbian organizations. Timothy's largest fund, Timothy Plan Large/Midcap Value, earns five stars from Morningstar, and its five-year annualized return tops 17 percent. The fund's screens do not find anything objectionable about oil company profits. Its largest holding is ExxonMobil.

Several Protestant funds are subadvised by outside managers who follow the funds' predetermined screens. "They generally will do that so they can find the best managers," says David Kathman, a fund analyst with Morningstar. Potential investors should note that religious offerings may be more expensive than comparable mutual funds, and, Kathman notes, the subadvisers' expertise could well be put to use managing other funds that come with a cheaper price tag.

For example, MMA Praxis Core Stock, a fund from the Mennonite Church USA's fund family, is subadvised by Davis Selected Advisers' Chris Davis and Ken Feinberg—two "excellent" managers, Kathman says. "If the religious screens are important to you, then you could do worse than having Chris Davis and Ken Feinberg running your money," he says. But the MMA Praxis Core Stock carries a higher expense ratio—1.45 percent—than other funds they manage with similar portfolios, he notes, so "if those screens aren't important to you, then you might as well buy their other funds for a much cheaper price."

Ave Maria Mutual Funds, a Catholic mutual fund family, follows investing standards determined by an advisory board of prominent lay Catholics, like CNBC's Larry Kudlow and former Notre Dame Football coach Lou Holtz, who also work with a Catholic cardinal.

George Schwartz of Schwartz Investment Counsel, which serves as investment adviser to Ave Maria's funds, would rather describe Ave Maria as "morally responsible" than socially responsible. Ave Maria won't invest in companies that are associated with abortion services or pornography. It also screens out companies that support Planned Parenthood, as well as those that extend employee benefits to include nonmarital partners. In all, about 400 companies in the Russell 3000 Index are eliminated. But it isn't all about negative screens and religious standards. These funds are, after all, intended to make money. And "we're interested in making lots of money for our shareholders," Schwartz says.

Islamic principles have helped Amana avoid at least one major debacle. Its growth fund had to dump Enron stock when the energy company's debt ratio grew too high, and Amana sold at a profit. Screens can't, however, guarantee superior performance. Saturna Capital's Nicholas Kaiser, who manages both Amana Funds, says his firm screens 5,500 stocks monthly and the process eliminates only half. Faith-based fund managers still have to apply their stock-picking wisdom to companies that survive the screen. Of course, when your religious values and investments are aligned, great returns may just be icing on the cake.

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